Stock increases dent optimism

In spite of some early-year optimism, metal markets are now having to cope with the reality of major increases in stocks on the London Metal Exchange (LME). Copper stocks climbed 27,200 tonnes; aluminum, 16,425 tonnes; and zinc, 9,000 tonnes. Only nickel escaped the trend, as another decline supported a move to a 4-year peak for prices.

Orders of U.S. durable goods surpassed expectations during the 5-day report period ended Jan. 28. Market-watchers are now focused on federal interest rates, which, at presstime, were expected to rise. Moreover, we believe that as global liquidity contracts over the coming months, commodities markets will focus increasingly on the negative implications for economic growth. As a result, metals prices will likely suffer in the second half of the year.

In Japan, industrial production fell 1.4% between November and December 1999. Private consumption remains depressed and government spending on the economy is negligible. It is unlikely that the recent upturn in Japanese metal demand indicators will be sustained beyond the second quarter, when the effects of the latest spending package wear off. One of Japan’s largest metal companies, Mitsubishi, says it expects growth of only 0.3% in Japanese aluminum demand in 2000.

LME copper stocks hit their highest level ever on Jan. 24; what’s more, these stocks account for only about 45% of total copper inventory at present. The most recent deliveries, to Hamburg and New Orleans, are part of a merchant deal with a major producer whereby regular shipments throughout 2000 will be placed in LME warehouses. In the first half of February, a further 25,000 tonnes are to be delivered, mostly to Hamburg.

A major problem for the copper market is that supply is increasing rapidly, with two mines — Batu Hijau in Indonesia and Los Pelambres in Chile — expected to be the chief producers this year. The latter expects to crank out 246,000 tonnes of contained copper in 2000, though startup has only just begun.

The downward adjustment experienced during our report period was probably a corrective phase in what still appears to be a bull market. In early February, we expect prices to trade in the range of $1,840 to $1,900 per tonne. Ultimately, copper prices will likely peak at $2,000 or thereabouts some time in the second quarter, but expect a sharp downward correction to follow.

Peru, the world’s fifth-largest producer of the red metal, saw mine output rise by 53,000 tonnes in 1999 to 536,000 tonnes. This increase came despite 40,000 tonnes of lost output at Southern Peru Copper‘s (pcu-m) Cuajone mine, owing to rain and metallurgical difficulties. However, extra output from Cuajone and from the Toquepala mine, also owned by SPCC, is expected to boost overall production this year.

Japanese copper cable shipments are expected to increase in 2000, having fallen 5.1% in 1999. The pace of recovery is expected to be slow, however, in accordance with the projected pace of private-sector capital spending.

Meanwhile, LME stocks of aluminum climbed 16,425 tonnes, while prices remained well-supported at $1,710 to $1,720 per tonne as a result of speculation over problems at Russian smelters and refineries. An announcement that the 270,000-tonne-per-year Novokuznetsk smelter had its exports blocked by a Russian regional court caused prices to rise on Jan. 26, though they fell back when it became clear production was continuing. There were also concerns over the supply of bauxite to the 950,000-tonne-per-year Nikolaev alumina refinery. Apparently, Transworld has gained control of the bauxite producer that supplies the Nikolaev plant.

Clearly, there are major disputes between government, local interests and foreign traders regarding control of the Russian aluminum industry, though these are essentially a reflection of the huge margins that the operations generate. In U.S. dollar terms, the cost of producing aluminum in Russia fell sharply after the ruble was devalued in August 1998 and, ever since, has remained stable at around half its 1996-1997 level. The recovery in prices over the past nine months has enhanced profitability even further, and it seems unlikely that any of the three groups would endanger operations when they are generating such large sums of foreign currency. Consequently, we expect no major disruptions to Russian aluminum production in the foreseeable future.

In the short term, we see support at $1,700 to $1,720 per tonne holding before prices move higher. However, stiff resistance is expected at around the $1,772-per-tonne level for the LME 3-month price.

Alcan is considering restarting some of its own 140,000 tonnes of idled smelter capacity. Chief Executive Jacques Bougie says Alcan had enough surplus alumina this year to feed its idled smelter capacity if needed.

We have been struck recently by the modest projections for aluminum demand this year coming from the major producers and traders. Alcan last week projected growth of 2-3% in 2000, a sharp slowdown in from last year’s level of around 6%. Mitsubishi projected growth of 2.6% and forecast that Japanese demand would be flat. We expect growth in excess of 3% for aluminum demand this year and a small market deficit. However a reduction in our growth rate to 2.5% would push the market into a surplus of around 100,000 tonnes.

Aluminum stockpiles in Korea are reported to exceed 80,000 tonnes currently and are growing, putting downward pressure on local premiums. Stocks are expected to remain at high levels into the second quarter.

Nickel prices soared on Jan. 28 to $8,790 per tonne as stocks continued to fall in response to the growth in stainless steel demand. Added to this are fears that there will be disruptions at Inco’s operations in Sudbury, Ont., when a labour contract expires at the end of May.

New supply continues to come on-stream slowly. In Australia, the Murrin Murrin mine of Anaconda Nickel and Glencor International is expected to crank out just 2,000 tonnes of nickel between December 1999 and February 2000 — well below earlier projections.

It was another poor week for zinc as LME stocks increased by 9,000 tonnes, pushing prices down to $1,143 per tonne — the lowest level since mid-November 1999. Most of the stock that was delivered to LME warehouses last week was of Chinese origin. We expect that, at the very least, exports will remain at last year’s high level of 527,000 tonnes in 2000. A new uptrend would be signaled if prices can climb back above $1,185 per tonne.

The economic imperative to raise exports from China seems to be getting stronger by the day. The Asian market is amply supplied with concentrates. Pasminco’s settlement with Japanese and Korean smelters in our report period proves this: at $189 per tonne, it was at the top end of the scale, and Pasminco’s chief negotiator admitted there is an abundance of supply in the region.

The high zinc price and strong dollar also improve the economics of exporting metal for Chinese smelters.

The only real question is whether the Chinese have enough spare smelter capacity to raise their production levels. Sources in China say zinc production capacity is likely to expand 10-15% in 2000. Growth in Chinese zinc demand could absorb some of this extra production, but, if LME zinc prices remain above $1,100 per tonne, there will be further growth in exports this year.

Huludao Zinc, China’s largest producer, exported 126,000 tonnes last year — an increase of 18% over 1998; Pasminco has restarted its Port Pirie lead-zinc smelter in Australia after a one-week shutdown that resulted in the loss of 60 tonnes of zinc; and at the Tara zinc mine in Ireland, Outokumpu and unions have agreed to open negotiations to resolve a long-running dispute.

Despite a fairly neutral result to the most recent U.K. gold auction, prices drifted back from their peak of almost $290 per oz. just before the auction. The cover ratio of 4.3 was an improvement on November 1999’s 2.1, and the price of $298.5 per oz. was 70 above the morning fix. However, the market was unimpressed, perhaps dwelling on the fact that the Dutch had sold 23 tonnes of the yellow metal that same day. On Jan. 28 in London, gold fell sharply to $281.35 per oz. With the market now trending lower again, a test of support at $280 per. oz. would appear likely before too long.